Caramba, another miss (except in Switzerland)!

After a bloodbath in 2022 and a mediocre year 2023, bonds once again disappointed, despite the policy reversals by Western central banks. The index tracking the performance of US Treasuries of all maturities posted a rise of 0.6% in 2024, following a gain of 4% in 2023 and a fall of 12.5% in 2022. Although the Federal Reserve’s ‘pivot’ materialised in the form of a cumulative 100 basis point cut in the Fed funds rate, long-term yields have risen sharply from the levels seen in the last session of 2023.

The yield on the US 10-year T-Note, which was around 3.9% at the start of the year, has climbed back to close to 4.6% today. An epic correction in the Long Bond has taken its yield close to 4.9%, the highest since November 2023. As so often, the ‘consensus’ got it wrong. Few (if any) strategists would have predicted a sharp rise in yields to coincide with a fall in monetary policy rates, made possible by a convincing fall in inflation.

Bonds underperformed for two main reasons: the unexpected resilience of the US economy and the victory of Donald Trump and the Republican party. While the US seemed to be heading for a challenging ‘soft landing’, in the end it was a ‘no landing’ scenario that materialised in 2024. Defying predictions of a recession, the Federal Reserve managed to get inflation under control without serious consequences for employment and corporate profits. Trump’s return and the Republicans’ double majority in Congress have also negatively impacted bonds due to a number of factors, including the prospect of lower taxes, renewed protectionism, and a tougher immigration policy.

The uncertainty resulting from the return of Donald Trump and the widely-held view that a recession is no longer on the cards are fuelling an understandable distrust of US dollar bonds. Ironically, the surge in yields, both real and nominal, and the ‘capitulation’ of strategists who have long touted the merits of bonds with much lower yields than today, could provide the basis for a recovery in 2025. After two years of euphoria involving gains of almost 60% for the S&P 500, a rebalancing of asset allocation in favour of bonds seems appropriate. The steepness and level of the yield curve also tend to justify an increase in duration before unfavourable circumstances lead the Fed to ease monetary policy, which remains restrictive to date.

In Europe, euro-denominated bonds have not escaped the influence of the USA. The yield on the 10-year German Bund has risen from 2.05% at the start of 2024 to 2.45% today, while the ECB lowered its key interest rate from 4% to 3% last year. It is true that the eurozone also escaped the ravages of recession last year, and that the sharp fall in yields at the end of 2023 has exhausted the potential gains expected in 2024.

In contrast, Swiss franc bonds posted an annual performance of 5.3% (AAA-BBB aggregate index), thanks to an aggressive cut in money market rates aimed at containing the franc’s appreciation and stemming the fall in inflation to below 1%.